If you are aware of crowdfunding, hedge funds, venture funds, private placements, then you must’ve come across the term accredited investors. These investors hold most of the cards when it comes to making investments in complex offerings and unregistered securities and takes on more risk than the retail investor.
But what exactly is an accredited investor? How do they get verified? How are they different from non-accredited investors?
Let’s find out.
What is an Accredited Investor?
AccreditedInvestors are those investors who are legally allowed by the SEC to trade in unregistered securities. Such investors often include-
- Financial Institutions such as brokerage firms
- High net-worth individuals
- Registered Investment Advisors
Generally, these investors can deal in investment opportunities that are not available to non-accredited investors like private placements or unregistered securities as they offer varied advantages such as privacy, discretion, faster turnaround time and lower all-in cost.
What Does An Accredited Investor Do?
Accredited investors are allowed to go for the riskiest of the investment options (investments relating to Regulation D offerings) that are currently available in the market. Some of these investment opportunities are-
- Venture Capital Funds /Angel investments– Investments in startups, emerging companies with high growth potential.
- Hedge Funds– Pool of money to invest in more complex products such as derivatives.
- Real Estate Crowdfunding– Raising capital for real estate investments through crowdfunding.
- Real Estate Syndications- Pooling of intellectual and financial resources to purchase and manage a property.
How To Become An Accredited Investor?
There are some requirements set out by SEC in Rule 501 of Regulation D to determine the status of an individual claiming to be an accredited investor. An individual must satisfy at least one of these requirements-
- (S)he must have a net worth of at least $ 1 million, excluding the value of the primary residence.
- (S)he must have an income of $ 200,000 per annum for the last 2 years and also expects to earn the same or higher in the current year. If married, the annual income should be $ 300,000 jointly. For all 3 years, the method for calculating the income should be the same, either single or joint.
Business entities, however, can be considered as accredited investors if their assets exceed a value of over $ 5 million or in which all of the equity owners are accredited investors.
However, there is no certification or process, per se, to verify the status of a potential investor. The authorized financial regulator does not review the credentials of every individual claiming to be an accredited investor. Instead, the companies that offer the unregistered securities perform the due diligence by asking for some documents such as-
- Tax Returns
- Bank Statements
- Pay stubs
- Balance Sheet
- Letter from CPA or attorney
Why Is Accreditation Necessary?
The regulatory authority aims at protecting the interests of companies as well as the investors by maintaining fair and efficient markets. So the question is why these income restraints are justified in the market scenario, which is supposedly equivalent to all.
The reason is that accredited investors have a safety net to fall back on and withstand the risk of losing a substantial amount of money. The high-income criterion helps ensure that these investors have efficient funds to absorb the losses incurred.
Since private offerings and complex investments such as angel investments, hedge funds are quite risky, they pose a significant amount of risk to investors. If these ventures fail, then the losses to bear would be quite heavy. In order to pre-empt the losses and protect the interests of investors with little knowledge, experience and no buffer to rely on, this particular class of investment deals are offered to accredited investors only.
Accredited Investor v/s Non- Accredited Investor
Roughly 9.86% of the American households meet the requirements set by the SEC for being an accredited investor. Rest are the non-accredited investors who do not meet those requirements.
Unlike accredited investors, non-accredited investors can’t invest in Regulation D investments like real estate crowdfunding and real estate syndication, and there are a lot of regulations against them investing in angel rounds of startups, VC firms, and hedge funds.
Pros And Cons Of An Accredited Investor
While being an accredited investor comes with its own perks like specialized investment opportunities, it also has its own cons.
Here are some of the advantages and disadvantages of being one –
- Higher Returns – Accredited investors have access to private placements that offer a higher return on investment as compared to what is offered in the public capital market.
- Higher Yield- Accredited investors don’t have to depend upon dividend-paying stocks, bonds, REITs for higher yields. They can invest in private placements that offer higher yields.
- Diversification of Portfolio– As the stock market is quite volatile, the public capital market does not offer many options for the diversification of the portfolio. Accredited investors have access to such assets that are non-correlated to the market.
- Higher Risk – The investments options like private placements, hedge funds, venture capital funds and angel investments are much more complex and risky. And because of inappropriate regulatory protection, these investors are exposed to a lot of scams.
- Illiquidity – Private offerings demand long term commitment which can often extend up to 5 years in case of real estate deals with no option of selling in the secondary market.
- Higher Fees – Private offerings demand excessive fees. This results in limiting their returns.
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“Scandal” and “Little Fires Everywhere” star Kerry Washington won her first Emmy Award yesterday, but when she joined us at TechCrunch Disrupt today, she was much more focused on her work as an investor.
Washington traced much of her interest in technology to the premiere of “Scandal” in 2012. It had, she said, been “almost 40 years since a Black woman was the lead on a network drama,” which meant that the pressure was high — and that “Scandal” was considered a “bubble show,” with the network “taking a big risk by putting a Black woman in the lead.”
So Washington said she drew on her experience as a volunteer with Barack Obama’s presidential campaigns in 2008 and 2012, and particularly her work with social media organizing, to try to rally support.
“From the very beginning of that show, we leveraged the power of technology to support the show in ways that traditional media wasn’t supporting us — or was waiting to see what the public response would be,” she said. “Really, I think the Twitter-verse allowed us to have a second season, and then we kind of took off from there.”
As for how that led to investing her own money into startups, Washington suggested that she wanted to be more involved.
“When it comes to my engagement with any sort of any creative relationship that I’m in, I’m not really good at having a seat at the table without a voice,” she said. For example, she noted, “I gravitated very quickly in my career … toward being a producer.”
Similarly, she said that using tech tools was exciting, “but figuring out how to have more stake, more input, more creative voice, more ability to impact the technology itself was really exciting for me.”
Washington’s first investment was in female co-working space The Wing, which she explained as being part of her commitment to “ideas of inclusivity and community, celebrating identity in a really inclusive way, supporting women’s voices, supporting marginalized voices.”
The Wing has seen its share of success, but also controversy, with a New York Times article reporting that a number of employees (particularly women of color) felt that they had been mistreated. In the wake of these criticisms, CEO Audrey Gelman departed this summer.
When asked about her response to the controversy, Washington said, “As somebody who’s an investor, as a woman of color, it’s important to me that there is increased transparency and also accountability.” She said that over the past few months, her role as an investor has been “really just supporting leadership in this transition,” while also expressing a “deep desire” for that transparency and accountability.
Other investments include Community, which allows celebrities to manage text message conversations with fans. (Washington promised that if you text her, she will really be the one who responds — though she also asked for patience, since she’s texting with “thousands and thousands of people.”) There’s also direct-to-consumer teeth-straightening startup Byte, which Washington said she uses herself.
As for her dream startup, Washington said she has a not-yet-announced investment in a direct-to-consumer fashion startup, “and it feels really dreamy at the moment.”
Again, these have all been personal investments so far. Would Washington consider raising a fund or joining a venture capital firm?
“I have considered it, but at this point, I really like having the more intimate and really hands-on relationship with the investments that I’ve made,” she said. “I feel like I’m really able to be in the trenches and bring more value as an individual investor.”
For Jim Breyer, the mantra, “Silicon Valley is a state of mind” has always been behind Breyer Capital, his personal investment fund.
While many of his investments and board seats (which have included Facebook, Blackstone, 21st Century Fox, Dell, Etsy, Marvel Entertainment and Walmart) backed that thesis, Breyer had never established an office for his personal fund outside of the Valley. Until now.
Earlier this year, in the middle of a pandemic, he set up a second home for his personal fund in Austin, Texas. The move is a sign of Austin’s growing clout as a technology hub and another indication that Silicon Valley, New York and Boston may have more competition from a growing collection of cities for tech talent and national attention.
Breyer has always had an eye on markets outside the Valley, but typically those endeavors meant international expansion through IDG Breyer (a vehicle for investment into China) or planned forays to deploy capital in the Middle East or other international tech hotspots.
“The new Austin effort comes after several years of thinking through where would be the most interesting place to expand Breyer Capital outside of Silicon Valley,” he said in an interview.
Breyer has several investments in Los Angeles, New York and other cities beyond the Bay Area, but a close relationship with Michael Dell and a seat on the Dell board left him with a hankering for more than just barbecue and personal computers.
Before everyone here attacks me – I know not every investor is going to think you’re building anything valuable. I get that you should take their feedback and move on.
But I need to vent after a particularly ROUGH investor pitch meeting. Actually it was a practice pitch. I found it on meetup and thought I could get some pointers as well as concept validation & feedback. There were 4 investors on the call.
Most of them evaluated my pitch & product, gave me useful feedback on what I could be doing better and why they would or would not invest. And then there was Bob. (Not his real name.)
Bob challenged me on every detail of my pitch, which I expected (that’s the point right?) But then he became LOUD, yelling, asking me questions and talking over me during my answer. When we were talking about competition, I listed a number of my competitors – intentionally choosing large/med/small companies and highlighting our differentiators.
Bob happened to be familiar with a competitor I hadnt heard of before. They were a very small company overseas who are working on something in the same vertical but not the same product. Anyway when asked me how I’m different from “company x” I simply admitted I was unfamiliar with them.
Then bob lost it. How could I not know the name of every single company on earth building an AR product? He said he did not take me seriously as a person or a founder, that I have no business starting my own company, that I am uneducated and uninformed, that my idea has no real value, and that he would never invest in me as a person.
I was totally dumbfounded. I get it, I made a mistake and should have known the name of that one obscure startup overseas but I didn’t. I thought the purpose of going to practice pitches was to get critiqued, not attacked.
Anyway based on my knowledge of Reddit and the startup community I am sure people here will just say I deserved the freak out but regardless I need to vent after a hard day 🙁
While TV shows portray the startup investments to be fun and games, it’s the total opposite in reality. Sometimes, scoring an investment proves out to be more difficult than actually starting up. And often, not being able to score an investment ends up a startup.
But what makes it so hard for startups to get investments? What do these startups or entrepreneurs lack?
Well, here are 13 reasons explaining why investors won’t invest in your startup.
Your Company Doesn’t Match Their Portfolio Or Interests
If you don’t already know, let me break this to you – investors won’t usually invest in a startup they can’t associate themselves with.
Most of the time, founders fail to even get meetings with the investors just because of the same reason.
Angel investors have their interest segments, and venture capitalist firms have their portfolios. You need to make sure you’re approaching the right investor who’ll be interested in the niche you operate in.
You go for investors who –
- Have invested in a startup of a similar niche before.
- Belong to a similar niche or has some experience in the same.
- Have profited from previous investment in a startup of a similar niche.
You may try not to spend much time on wooing investors who –
- Got burned by a previous investment in a startup of a similar niche.
- Doesn’t belong or have experience in the identical niche, or
- Hasn’t investment in a similar niche
You Have Come For An Investment A Bit Too Early
A usual startup witness six stages in its lifetime –
Every stage witnesses its own type of investor –
- Family and friends at the ideation stage
- Credit or crowdfunding during the testing stage
- Angel investors during traction and refinement
- Venture capitalists during scaling
- Corporates when established.
If you reach out to big investors during your startup’s initial stages (without any traction), chances are that they’ll turn you down.
Your Numbers Aren’t Enough
Sometimes, the investors’ expectations are different from the actual business numbers, which results in them turn down the deal.
Sometime, this happens because the businesses choose the wrong investor to pitch to. Suppose your startup has a worth of $ 1M. Now, this may seem huge. But for a venture capital fund of $ 1 billion, it may be too small for an investment.
Another reason could be them weighing the years of your existing with the traction you’ve received. If you’re asking $ 1M for 3 years old business that has just witnessed 30k transaction in 3 years. You could be turned down because your numbers don’t back up your valuation and
The Cash Flow Is A Problem
Not all startups witness a positive cash flow in the beginning. However, investors do look for proper planning, management, organisation, and a road-map to convert the negative cash flow to positive.
Why, you ask?
Because 82% of the businesses that fail cite poor cash management as a factor behind their failure.
You could have a company with a revenue of $ 10M, but maybe your business model is such that your company can’t get cash flow positive until you reach $ 200M in revenue. This will require a lot of money, faith, and risk for an investor to carry you which (s)he might not be ready to take.
There’s No Barrier To Entry
Investors do look for a unique selling proposition – an idea or an execution that is proprietary. They prefer patents, exclusive contracts, and other barriers to entry.
Investors look for long term benefits. If they invest in a business, they look for whether the company has the potential to remain the leader or a major market-share-holder for a long term till their exit.
They Have Already Invested In A Similar Business
It’s rare for an investor to invest in two similar businesses in the same segment. If you own a T-shirt retail company and approach an investor who has invested in a similar company. There are high chances that (s)he’ll say no – precisely because (s)he’s backing your competitor already.
They Don’t See Transparency In The Pitch
Startup investors invest in the eligibility, motivation, and the honesty of the team. If they feel that you’re hiding vital information or misreporting stats relating to –
- Team experience
- Existing traction and numbers
They Don’t Feel That You Know Your Key Performance Indicators (KPIs)
The investors look for founders who truly understand their businesses’ financials and key metrics that demonstrate how effectively their company is achieving key business objectives. You might find it hard to get investment if you don’t understand your top priorities and critical metrics that represent those priorities.
Investors may turn down your offer if they don’t get substantial evidence of you understanding your KPIs and providing insights on your plans to improve them.
Your TAM Is Too Small
The total addressable market denotes the maximum growth opportunity for a startup. While many founders try to scale down TAM to make it less ambiguous, many scales it down to a level that the market looks to be too small to start a business in.
If the investor believes that your TAM is too small for his investment to produce fruitful results, he might turn down the offer.
You Don’t Have A Deep Understanding Of Your Competition
“How are you different from XYZ.”
“I’ve seen a similar company operating in your niche. Why are you special?”
These and other similar questions often come into play during the pitch. If the investors aren’t convinced with your competitive advantage, differentiated value proposition, and unique product-market fit, they might turn your offer down.
You Don’t Have Skill, Education, Or Experience To Back Your Idea Up
Investors look for a team with proven skill, education, or experience to back their idea up. If you’re an entrepreneur with a proven history of a successful startup before, you might get preference over other entrepreneurs with no such experience.
Moreover, investors also prefer if you select your team based on their qualification and experience rather than their relationship with you.
You Don’t Have The Right Business Model Or Business Plan
A business plan explains your vision and goals and how you plan to achieve those goals – all expressed quantitatively. A business model, on the other hand, is how you operate and make money.
If any of these fails to impress the investors, they may reject your fundraising proposal.
They Think That You’re Uncoachable
Most investors invest as they see the value they can provide to the startup. If they believe that you are too adamant about changing or are being uncoachable, they may turn down your offer.
They predict this during your pitch. If you don’t listen to what they have to say during your pitch, they might feel that you won’t listen to them afterwards as well.
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William Reeve is a British serial entrepreneur, who is best-known for founding renowned companies like LOVEFiLM, acting as CEO of Goodlord.co (a leading proptech in the UK), acting in non-executive positions and investing in high-growth companies (like Graze, Smart Pension, Secret Escapes, and Zoopla), or sometimes is a combination of all of the above. What ties together all of William’s ventures…